Equities explained

When a company decides to raise capital it can do so in a few ways, it can borrow from a bank or it can issue securities, in the form of Equities (shares) or bonds, to the general public. Bonds are a contractual agreement to repay the principal and interest whereas Equities represent ownership. Today we will investigate the differences between equities a bit more closely.

Ordinary Shares

Ordinary Shares are the most traded security in the market. They represent proportional ownership of the company and a claim to future cash flows in the form of dividends, once all contractual obligations have been met. Although there is no legal requirement for the company to pay dividends, the value of the share is based partly on the amount of dividend paid. Management decides the amount of dividend payable and may also pay special dividends at any time. Shareholders also have the right to vote at general meetings, therefore they can influence the selection of the Board and various policy decisions.

If the company gets into financial difficulty the shareholder will probably not receive any dividends. On the flip side, the advantage of this type of company structure is that if the company then goes into liquidation with debts, the Shareholder is not liable to pay any more money as their loss is limited to the value of the shares they purchased.

Preference shares

Preference Shares are another type of share that have differences to ordinary shares that make them less of a risk and more attractive. The preference shareholder is first in line for dividend payments (which are normally fixed value), and the distribution of any assets if the company is liquidated. There are three additional types of preference shares that differ in the way in which they pay dividends;

Redeemable Preference shares infer the right for the shareholder, under defined conditions, to sell the shares back to the company at a fixed price. Certain redeemable preference shares also allow the company to purchase back at a fixed price.

Cumulative preference shares allow the shareholder, in future payments, to make up any shortfall in dividend payments that may not have been paid due to lack of profits.

Participating preference shareholders receive their fixed dividend amount and are also entitled to share in any extra profits alongside ordinary shareholders.

Convertible Bonds

Convertible bonds, also known as convertible notes, are a hybrid security, in that they are bonds that are convertible into shares. This can be instigated by the bond holder at anytime before a fixed date, as the price is also pre-determined the value of the bond will vary dependent upon the value of the share.

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